When it comes to investing, ESG is one of the latest buzzwords. So what does it mean and, importantly, should you care?
There’s a lot of talk about ESG investing these days. The problem is it’s not always clear exactly what that is.
In fact, you’d be forgiven for assuming it’s primarily about climate change and the push to invest in renewable energy – a natural enough assumption given any ESG commentary is often accompanied by images of solar panels and wind farms.
However, the fact is it’s so much more than that.
ESG stands for environmental, social and governance. And when it comes to responsible investing, all three factors are viewed as essential in evaluating an organisation’s long-term sustainability. By investing in companies that set the very highest standards here, investors are better positioned to avoid the impact of ESG risks. Additionally, identifying and investing in those companies that are providing solutions to ESG problems, such as climate change, may offer attractive long-term financial returns.
Going for green
Take ‘environmental’. While this is about assessing a company in terms of its impact on climate change, it’s also a matter of getting comfortable with its environmental credentials, right across the board, including how it addresses any environmental risks or opportunities.
This means evaluating its impact on:
- Pollution and carbon emissions
- Air and water pollution
- Water scarcity and management
- Biodiversity and site restoration.
Together they provide a clearer picture of what a company is doing to hurt – or, preferably, help – our natural world. But they also tell us whether a company is vulnerable to the risks of climate change or environmental degradation, which ultimately goes to its financial performance.
Making a positive social impact
Social factors also give us a better idea of a company’s sustainability. Fundamentally, it’s about how a company engages with the community and with society as a whole – how it works to create a fair and diverse workforce and social opportunities for all.
In practice, this means assessing a company’s:
- Working conditions, including its occupational health and safety (OH&S) practices
- Employee engagement
- Integration with local communities
- Community giving and investment, as well as its
- Commitment to customers.
In addition, it’s about assessing a company’s record as far as equality and human rights are concerned – something that necessarily extends to its supply chain. For example, it’s vital to question whether any of the organisations a company relies on have links to modern slavery, such as forced labour or the slavery of children.
All of these go to the strength of a company’s ongoing work practices, but also to its ‘social licence’ to operate – the trust and confidence that’s fundamental to a company’s continued wellbeing. If it has the support of its employees, its customers, its community, it’s much more likely to survive and thrive.
Knowing the company inside out
The issue of governance is critical too. Think: if a company isn’t run well, how can you trust that it’s doing its best for the environment or society?
Governance is about how a company manages itself, but it’s also about how it creates frameworks and strong lines of communication to ensure that it’s accountable as well as efficient.
This means a company should be judged on its:
- Board’s structure – its diversity and independence
- Executive remuneration, including any short- and long-term incentives
- Responsible investing
- Anti-competitive behaviour
- Bribery or corruption
- Climate disclosure, including how any climate-related risks or opportunities are measured and monitored.
The financial upside
At a time when the science says we need to act on climate change now – a growing number of people are looking to invest in society’s leaders: those companies that can best be trusted to take care of our world. It’s one of the overriding reasons why ESG investing has gained such momentum in recent years.
It isn’t the only driver though. Government regulations are also demanding action, while many companies are themselves responding to commercial considerations, including access to additional ‘green’ funding.
Juggling the E, S and G
Putting it into practice can be a little more challenging. After all, best practice in one industry can look entirely different from best practice in another. And how do you balance competing issues, such as protecting land clearing while also protecting people’s jobs? At the end of the day, it’s not simply a matter of avoiding, or selling, certain shares.
Take, for example, Danish company Novo Nordisk – one of MLC’s largest holdings. While it does incredible work to improve the lives of people with diabetes, providing 50 per cent of the world’s insulin, there’s no getting away from the fact that its plastic injection pens weren’t being recycled – about 550 million of them a year, going on its production numbers.
Rather than stepping back from the company, MLC and a large number of other investors pushed for change, sharing their concerns directly with Novo Nordisk. The company listened, and today its used injection pens are converted into plastic chairs and tables for school children.
It’s a nice win for ESG investing.
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This article has been prepared on behalf of NULIS Nominees (Australia) Limited ABN 80 008 515 633 AFSL 236465 (NULIS) as trustee of the MLC Super Fund ABN 70 732 426 024. NULIS is part of the group of companies comprising Insignia Financial Ltd ABN 49 100 103 722 and its related bodies corporate (‘Insignia Financial Group’). The information in this article is current as at July 2022 and may be subject to change. This information may constitute general advice. The information in this article is general in nature and does not take into account your personal objectives, financial situation or needs. You should consider obtaining independent advice before making any financial decisions based on this information. You should not rely on this article to determine your personal tax obligations. Please consult a registered tax agent for this purpose. Opinions constitute our judgement at the time of issue. The case study examples (if any) provided in this article have been included for illustrative purposes only and should not be relied upon for decision making. Subject to terms implied by law and which cannot be excluded, neither NULIS nor any member of the Insignia Financial Group accept responsibility for any loss or liability incurred by you in respect of any error, omission or misrepresentation in the information in this communication.